A wave of distressed debt and special situations funds has hit the market in recent weeks in response to the Covid-19 pandemic downturn, jumpstarting a segment that had dwindled to almost an afterthought of private credit investing. Nearly a dozen new or expanded funds are seeking about $30 billion in capital, led by Oaktree Capital Management’s $15 billion effort that alone would bring in nearly as much as the entire distressed debt segment
raised all of last year.
Other big names jumping in the market or adding capacity to existing fundraising efforts include PIMCO, Fortress Investment Group, Highbridge Capital Management, Cerberus Capital Management, and Atlantic Park, a joint venture between General Atlantic and Iron Park Capital Partners that is raising $5 billion.
That’s a big change from a relatively sleepy 2019, which featured 19 funds closing with about $19.1 billion in aggregate capital, down from the recent high of 29 funds closed in 2017, according to data from Preqin. Distressed strategies were a small slice of the 151 private credit funds that closed last year with $104 billion in aggregate capital, most of that in direct lending vehicles, according to Preqin.
But the rush of new distressed strategies responding to the coronavirus economy may not be done yet, says Alan Pardee, a managing partner at Mercury Capital Advisors, a placement agent firm.
“Any fund platform that is credit-oriented is currently in the market or devising how to be in the market soon with a distressed debt version of themselves,” he says. “We’ve seen people who are still taking those steps, and would not be surprised to see other funds joining the present group.”
Limited partners and consultants are not surprised by the rapid shift, with many closely studying the new landscape for investing, says Andrew Angelico, v.p. at Wilshire Associates in its manager research group.
“It has been interesting to see how quickly the opportunity set has opened up or transitioned,” he says. “It was a less interesting area to be in for a couple of years, but with Covid-19 and the energy and oil disruptions, we’re seeing opportunity sets open up. We’re actively sharpening our pencils… as the dislocation, economic impact, and price realization rolls through the capital markets.”
Oaktree’s effort, the latest version of its distressed debt flagship fund, would be the largest ever raised in the category. The strategy aims to buy debt from struggling companies or launch takeovers through corporate restructuring efforts.
General Atlantic and Iron Park Capital – led by former GSO Capital founder Tripp Smith – are teaming up for their $5 billion effort, aiming to provide financing to companies facing distress during the downturn, according to the Wall Street Journal. Fortress is raising a new $3 billion pool aimed at downturn-created opportunities that will complement the $5 billion credit opportunities fund it closed last November, says a source familiar with the matter. Meanwhile, PIMCO is launching a new $3 billion distressed
vehicle, Highbridge is seeking $2.5 billion across two funds, and Cerberus is planning on raising $750 million, a target upped after the crisis began, as reported.
Some firms have already finished their efforts, including Kayne Anderson Capital Advisors, which quickly raised and closed a $1.3 billion real estate opportunistic debt fund in recent weeks, building on its existing real estate debt strategy with a vehicle focused on distressed lending and buying opportunities, says a source familiar with the effort.
Others have just begun, with Angelo Gordon pivoting off of the $1.8 billion credit solutions fund it closed in February to now raise an “annex” to that strategy focusing on downturn-related investments, which has brought in about $650 million, along with two other new $750 million funds focused on real estate debt and structured credit, according to Bloomberg News. The San Mateo County Employees’ Retirement Association already committed $25 million to the annex fund earlier this month, according to MandateWire. And KKR has used the shell of its third special situations fund, which it began raising last year with a $1.5 billion target but later suspended, to launch a new dislocation opportunities fund that is aiming to invest in several areas, starting out with about $617 million that had been in the prior strategy, as reported.
Investors certainly will be evaluating distressed team experience as well as asking managers about their deal sourcing capabilities and how they will manage downside risk in this uncertain market, Angelico says.
“Are there structural protections in place?” he asks. “Is it cheap enough? How will you control the outcomes of difficult situations?”
Investors will want to see managers with specific skillsets, Pardee says.
“Who has the stressed, distressed, transitional skillsets?” he says. “Those are the ones that limited partners will spend more time with now. We expect limited partners to still do their homework.”
Wilshire sees one set of near-term “clear and present” opportunities, such as better pricing on leveraged loans and
corporate debt because of market dislocations, Angelico says. There is also a still-forming set of future investments in the structured credit markets in areas related to collateralized loan obligations (CLOs) and asset-backed or specialty finance lending, he says.
It’s also likely that consultants and investors scouting this new distressed debt and special situations market will tilt more toward existing managers rather than new relationships, and to experienced firms rather than outfits pivoting to add new strategies, Angelico says.
“The groups that we have had contact with on a more regular frequency are where more of our conversations are right now, given how fast it opened up,” he says. “The markets became dislocated so quickly that we have to have that capital in their control sooner rather than later.”